Indicative five year timetable for NICs reform

The report builds on the March 2016 report and sets out the case for NICs reform, with an indicative five year timetable.

The OTS has found that:

• it is widely acknowledged that national insurance is out of date. It no longer supports modern working patterns, and creates unfair outcomes between taxpayers
• it is complex to administer, and this makes it difficult for taxpayers to understand how much they should pay and the impact it has on their entitlement to benefits
• a simpler, and fairer, system would treat everyone’s earnings in the same way, for both income tax and national insurance. This means that national insurance would be calculated in the same way as income tax, making it easier to understand
• this could change the amount some people pay, but would not raise taxes overall
• there is widespread support for the OTS’s reform proposals.

So in summary, the closer alignment of income tax and national insurance is desirable and realistic. The income tax and NICs system was built for the working patterns of yesterday and not for today, let alone for tomorrow. Currently these two taxes on earnings operate very differently.

We live in a changing business environment, with diverse ways of working. There are a growing number of people who work in self-employment, multi jobs and freelancing.

It is in this context that ministers asked the OTS to review closer alignment – not merger – with a key aim of getting a more informed debate going on the implications of closer alignment.

In March 2016 the OTS published its first report on these issues, concluding that aligning the way the two taxes are calculated would create a simpler, more transparent and fairer system for taxpayers and employers. The OTS recommended a 7-step plan to do this:

• calculating employee NICs on a similar basis to PAYE
• moving employer NICs to a payroll levy
• aligning the scope and definitions for income tax and NICs
• the self-employed to pay and receive the same contributory benefits as employees
• benefits in kind to be fully within NICs
• increase transparency and understanding amongst taxpayers
• harmonise administration and legislative procedures.

That report also demonstrated that changes to employees’ NICs could result in many millions being adversely impacted, as well as there being many millions of gainers – in fact more gainers than losers.

Similarly, replacing the complexity of employers’ NICs with a simple payroll charge could have significant implications for some industry sectors.

So the OTS has been drilling down further into the numbers to get a fuller picture of the potential impacts of these options. The new report takes forward these two key aspects of the OTS’s proposals; they want to ensure a more informed public debate on the implications: who would be affected and by how much?

Calculating employee NICs on a similar basis to PAYE

The OTS’s key proposal is to move employees’ NICs to an annual, cumulative and aggregate (ACA) basis, so that it is calculated in a similar way to PAYE income tax. This redesign could result in 5.5m employees paying more NICs and 7.6m employees paying less.

The problem with employees’ NICs

Currently, an individual’s sources of employment income are treated separately for NICs, so that someone with two part-time jobs can pay less NICs than someone earning the same from one full time job. PAYE income tax combines sources of income, so this difference doesn’t arise.

Report summary

As well as the full report, the OTS has also published an at a glance document and a report summary which provide an excellent summary of their findings and also illustrates the distortions caused by the way NICs are calculated now.

NICs code: design options

The OTS has also published a NICs code: design options paper where they propose a NICs code which replicates the function of the PAYE/IT code but adopts a different format. The paper provides further detailed explanation of the alternative ways a dedicated NICs code could be designed, as part of an annual and aggregated NICs system.

The paper also considers whether underpayments of NICs should be collected through the PAYE/IT code or the new NICs code, concluding that it would be preferable to use the PAYE/IT code.